Insight - A casualty of the financial crisis: The corporate palace

(Reuters) - In the past year, defense company SAIC Inc SAI.N has shrunk the office space it either owns or leases by 306,000 square feet (28,428 sq meters), the size of about five football fields.

SAIC Inc. corporate headquarters in McLean, Virginia is shown in this September 2009 handout photograph. REUTERS/Picture courtesy of SAIC/Handout

Now, it is thinking about tearing down many of the walls at its headquarters in McLean, Virginia, replacing private offices with open-floor layouts. Fewer offices mean the same space can accommodate more people, which will help cut costs further at a time when the defense industry is facing a downturn.

“The consequences of making smart real estate decisions are more pronounced because we have, candidly, greater cost pressures, greater competitive pressures today than we have had in years,” said Mark Sopp, SAIC’s chief financial officer. “It has to have the latest technology and collaboration environment, but it’s got to be smaller and cheaper than what we might have otherwise built 10 years ago.”

The palatial headquarters that came to symbolize the rise - and the fall - of companies such as AOL-Time Warner and CIT Group Inc (CIT.N) may have had their day, executives and real estate experts said. While the bare-bones headquarters favored by Wal-Mart Stores Inc (WMT.N) may be too spartan for many, there are plenty of companies rethinking real estate costs as they look to boost margins in a slow-growing economy, they said.

In many industries, such as financial services and technology, real estate ranks among the top expenses. More efficient use of office space can lead to tens of millions of dollars in annual savings - a boon for the bottom line at a time of uncertain revenue growth.

“Organizations are looking very discriminately at costs because, in a lot of ways, their fundamentals have changed as a result of the recession,” said Lenny Beaudoin, senior managing director of CBRE Group Inc’s CBG.N Global Corporate Services.

As a result, companies have been consolidating their locations. Some are considering selling the real estate they own and redirecting the money to other uses such as research and development. Technological advances have helped them get rid of file cabinets and big desks. Long tables, benches and other collective working spaces are replacing closed doors and windowed offices.

In 2008, the average office space per person was about 250 square feet. Now, the average is 150 square feet, said Christian Beaudoin, research director at Jones Lang LaSalle Inc (JLL.N). He predicts that will shrink to as low as 125 square feet by 2017.

Tom Powers, executive director of IA Interior Architects, which specializes in office interiors, estimates the space has shrunk to about 180 square feet per person from about 270 square feet a few years ago.

Real estate spending by corporations has ticked up since 2010, but much of the increase has come from companies spending money to use space more efficiently and help productivity, said Richard Kadzis, vice president of CoreNet Global, an organization representing real estate managers at companies. But spending is below pre-crisis levels.

“Trophy is pretty much a thing of the past,” Kadzis said.

Microsoft Corp (MSFT.O), for example, is moving its New York office from the heart of Midtown Manhattan on Avenue of the Americas, where sources said it is paying $49 per square foot to the outer edges of the posh office area in the city on Eighth Avenue.

Microsoft will pay an effective annual rent of about $47.56 per square foot for the first five years of its 15-year lease, the sources said. Moreover, it will move into a newer, bigger and more energy efficient office, with a lease that will protect it from rent spikes in the future. The average Midtown asking rent is $67.72 per square foot, according to CBRE.

Microsoft did not respond to requests for comment.

The focus of many companies is now on comfortable and presentable offices, which would help attract employees, increase collaboration and be adequate for clients.

“It’s not like they’re not going to spend money on marble,” said Jay Cross, who is in charge of a massive Related Cos project to build offices and residential towers in Manhattan. “But they’re going to spend it on the average washroom on every single floor and not necessarily in the boardroom.”

DECEIVING LOOKS

Value investors have long praised companies with austere headquarters. In Peter Lynch’s 1989 book “One Up On Wall Street,” the famed portfolio manager, who then worked at Fidelity, described visiting the headquarters of fast-food chain Taco Bell and noticing that it was tucked behind a bowling alley.

“When I saw those executives operating out of that grim little bunker, I was thrilled. Obviously, they weren’t wasting money on landscaping the office,” he wrote.

But noted short seller Jim Chanos cautioned that stripped-down headquarters may not tell the whole story.

When Dennis Kozlowski was running Tyco International Ltd TYC.N the company’s nominal headquarters was a nondescript building in New Hampshire. Chanos told Reuters that Kozlowski and his management team would bring analysts and money managers up to those offices to show them Tyco was disciplined on costs.

Chanos, whose Kynikos Associates LP was short Tyco at the time, said it was only later that he learned Kozlowski conducted most of his business from 9 West 57th Street, a plush office in Manhattan with views of Central Park.

Kozlowski was ousted from Tyco in 2002 and later convicted of looting his company, amid many tales of excess, including using $1 million of Tyco’s money to help pay for a party for his wife on the Italian island of Sardinia, and $6,000 for a shower curtain in his New York apartment.

Tyco, which has been through restructurings since then, no longer has any offices at 9 West 57th St, spokesman Brett Ludwig said, and its U.S. headquarters are in Princeton, New Jersey.

Of course, dreams of building a grand headquarters is not totally gone from the CEO imagination.

Apple Inc (AAPL.O), for example, plans to build a new headquarters complex based on a a ring-like structure resembling a spaceship at Cupertino, California. In 2010, Salesforce.com (CRM.N) CEO and founder Marc Benioff envisioned a vast $2 billion corporate campus in San Francisco for the online sales management tools provider.

But such grand plans can end in tears. Cost overruns led Salesforce.com to abruptly pull the plug on the project last year. Instead, it is doing a more modest expansion of its offices, including leasing a 30-story building that is under construction.

Salesforce.com and Apple did not return calls seeking comment.

OPEN OFFICE

While office space and use has traditionally been designed around a corporate hierarchy with big offices, companies are now taking a more egalitarian approach.

Appliance maker Whirlpool Corp (WHR.N), for example, is renovating its global headquarters in Benton Harbor, Michigan to provide a more open and collaborative work space with fewer separate offices, spokeswoman Andrea Kincaid said. The move would reduce overall operating costs, provide more flexibility in adjusting to changes in staff levels and increase productivity, she said.

For years, everyone who has an office at pharmacy benefits manager Express Scripts (ESRX.O) has had the same-size office - whether they are the CEO or someone much further down the ranks. That culture is now being exported to Medco Health Solutions Inc, which Express Scripts bought last year. Spokesman Brian Henry said the setup has nothing to do with austerity measures.

“There are no executive parking spaces and no executive lunch room,” said Henry, who has worked for several large companies. “This is the first time I’ve had the same size office as the CEO.”

Some companies are saving real estate costs by asking people to work from home. Health insurer Aetna Inc (AET.N) has cut 2.7 million square feet of office space for about $78 million in annual cost savings, after asking nearly half of its 35,000 employees to telecommute.

One reason for the move toward utilitarian offices is that more executives are involved with choosing the space.

Information technology departments, for example, are involved in real estate decisions 45 percent of the time, up from about 15 percent two years ago, according to Jones Lang LaSalle. Even procurement departments, which were active in real estate decisions 20 percent of the time a few years ago, are now involved 37 percent of the time.

Extravagant headquarters are often the creation of a CEO whose company is on the rise, said Harry Kraemer, a professor at Northwestern University’s Kellogg School of Management and former CEO of healthcare company Baxter International Inc (BAX.N).

When things get tough, it’s usually a new CEO, needing to put the company back on track, who quickly ends that dream.

“If I’m beating up the division presidents ... I’m looking in the mirror and saying, ‘What the hell am I doing with this corporate palace?’” Kraemer said.